Tuesday’s underwhelming launch of the Amazon retail platform triggered big jumps in retail stocks led by JB HiFi, which gained 6.7%. Was the previous sell-down overdone? The picture is still far from clear… We recently asked Livewire contributors for their number one pick in the sector; they delivered as many long ideas as they did short ideas.
Note: Data is current as of 24 November 2017
Shareholders getting too comfortable at Nick Scali
We don’t short. But if we did, we would be shorting Nick Scali (ASX:NCK).
The furniture retailer has more than doubled sales over the past five years. After-tax margins have risen to 16% as revenue outgrew costs. The share price has risen by 350% and investors have received another 50% return through fully franked dividends. This year it will sell over $250m worth of leather lounges, armchairs and dining tables.
But you can only sell so many $5,000 lounges.
Nick Scali has been driven along by a stellar housing market. This is already showing some signs of slowing. And consumer confidence, already weak, may well get weaker. Lower sales would see margins contract. Lower profits would lead to lower earnings multiples.
It has been a great run for shareholders. It’s unlikely to last.
Two ideas from our portfolios
Roger Montgomery, Montgomery Investment Management
Our key long exposure is Wesfarmers (ASX:WES). We believe Coles and Bunnings are less likely to be impacted immediately. However, don’t expect significant absolute returns - just relatively better.
Our key short exposure is Myer (ASX:MYR). We see no compelling reason to shop there as their offer is based primarily on price and range, which Amazon does a better job at. Amazon also has deeper pockets and more patient shareholders.
Disclosure: The Montgomery Global Fund own shares in Amazon. The Montgomery Funds own shares in Wesfarmers
Making fast money on fast fashion
In the retail space our favourite exposure is Lovisa (ASX:LOV), a highly successful retailer of low-cost, fast-fashion jewellery. It has many desirable attributes as a retailer, incredibly fast speed to market for new product, impressive distribution/logistics, and high gross margins. Given the modest cost of opening new stores and an incredibly short payback period of less than 1yr, the incremental returns on invested capital are very high.
The real excitement comes from its store roll out program. LOV has successfully rolled out stores in numerous diverse countries - Australia, New Zealand, UK, Singapore, Malaysia, South Africa, Vietnam and the Middle East. Given the diversity of these countries there is little doubt that its retail format should be successful in any country it chooses to enter. It is currently trailing stores in Spain and the USA and we suspect that other European countries cannot be far behind (most likely France). The store roll-out potential for this business is many multiples of its existing store footprint. This will in turn deliver impressive earnings growth over the foreseeable future.
While LOV is cycling some tough comparable store sales, and there is a degree of inventory risk in its business (it is a fashion retailer after all), recent AGM commentary indicated that the business is continuing to perform well.
The retail stock most likely to go bust
We also asked these contributors which retailers are most likely to go bust, and what the key drivers of valuation have been: Amazon, or domestic factors? Click here for responses.